ESA Contributions

Who can contribute to a Coverdell Education Savings Account (ESA) and how much they can contribute is undeniably the most important aspect of how ESAs work. These rules may seem simple, but they do require coordination in order to be effective.

Who is eligible to contribute? You may be surprised to learn that almost anyone can contribute to a beneficiary's ESA. There doesn't have to be any family or dependant relationship between the contributor and the beneficiary, although usually that's the case. Even corporations and other entities are allowed to make contributions to ESAs.

Whether you are eligible to make a contribution to an ESA is mainly controlled by the amount of your income. The way this works is that the amount you are allowed to contribute annually is lowered in increments, if your adjusted gross income is over a certain amount, and may be completely phased out.

What are the contribution amounts? Since 2002, the most that can be contributed annually to an ESA for each beneficiary is $2,000. The maximum figure is reduced or eliminated if your adjusted gross income exceeds the amounts discussed above. So whether a beneficiary has one or more ESAs, the total contributed to them annually can't be more than $2,000. Whether one person contributes the entire $2,000 or four people each contribute $500 doesn't matter. The amount is per beneficiary, and not per contributor. So if you have four children, you could contribute up to $2,000 to an ESA for each of them, bringing your contribution total to $8,000 annually.

It's important to note that similar to traditional IRAs, you can make your annual permitted contribution until April 15 of the following year.

Whatever the amount allowed, what's contributed has to be money. In other words, the contribution to an ESA can't be stocks worth a specific amount or other property.

What happens if more than $2,000 (or whatever amount you're limited to) is contributed for one beneficiary in the same year? Well, a penalty in the form of an excise tax is applied to the amount in excess and the beneficiary is the one that is taxed. This is definitely not a result that does anybody any good.

Tip The vast majority of ESA beneficiaries have accounts funded by parents or grandparents. If parents are divorced or if well-meaning grandparents don't check with each other or their grandchildren's parents, the contribution limit could easily be exceeded. Coordination is a must here if you want to avoid problems!

It's important to note that transfers or rollovers do not count as contributions. So if there is a situation, say where the beneficiaries of an ESA are changed, the result of that change isn't considered a contribution for the limits.